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The Contracts Clause: Time For A Rebirth?
Topic: Constitutional Powers of Government
By Jeffrey A. Berger, an associate with the law firm Mayer Brown LLP who focuses on appellate and Supreme Court litigation.
Legal Backgrounder, September 25, 2009, 4 pages
Download a PDF of the Publication
Related Publications:
Whither Creditors’ Rights?
Legal Opinion Letter, August 28, 2009
Publication Summary:

WLF Legal Backgrounder

The Contracts Clause: Time For A Rebirth?

By Jeffrey A. Berger
September 25, 2009 (Vol. 24 No. 29)

The Contracts Clause, which prohibits all State laws "impairing the Obligation of Contracts," is perhaps the most familiar ghost of the United States Constitution.  After a vibrant start, it slowly faded from view until a New Deal decision transformed it into a phantom, channeled frequently in Constitutional Law classes but rarely with any success in courts of law.  Yet, the current economic climate, along with other factors, may present just the confluence of conditions that sets the stage for a renewed battle over its future. 

The Early Years 
Financial crisis is in the DNA of the Contracts Clause.  In the decade preceding the Constitution's ratification, state legislatures enacted a wave of statutes prompted by economic woes that, among other things, altered the contractual relationship between creditors and debtors, mainly to the benefit of the latter.1 Debate exists over whether the Contracts Clause was a reaction solely to debt-related legislation, or whether it represented a broader prohibition on retroactive abrogation of any contractual relationship.2 There is support for the latter proposition: James Madison wrote that the Contracts Clause served as a "constitutional bulwark in favor of personal security and private rights" and a protection against "sudden changes and legislative interferences" with private arrangements.3  No matter the Contracts Clause's exact scope, at the very least the Framers designed it to be a prophylactic in times of financial hardship, when pressure on state legislatures is at its zenith and respect for contractual arrangements may be at its nadir. 

The language that emerged from the Constitutional Convention is expansive-it bars "any" law impairing a contract.  Perhaps as a consequence, the Contracts Clause was a bright star in the constitutional firmament during the Supreme Court's formative years.  In a ten-year span, the Marshall Court used the Contracts Clause to strike down a Georgia law that rescinded an earlier statutory conveyance of land;4 a New Jersey law that repealed a fifty-year old tax-exemption;5 and a New York debt-cancelling law.6  In the textbook favorite, Dartmouth College v. Woodward, Chief Justice Marshall articulated a strong version of the Contracts Clause.  The Court declare unconstitutional a New Hampshire law that altered, but did not fundamentally abrogate, a charter issued to Dartmouth College, which was not necessarily the type of contract the Framers had in mind.7  The literalist shine placed on the Contracts Clause most likely was a function of Marshall's strong views about its meaning: he penned one of his few dissents in a case that upheld a state law against a Contracts Clause challenge.8

The Transformation of the Contract Clause 
The chipping away at the Contracts Clause began almost immediately after Chief Justice Marshall's retirement.  In 1837, for instance, the Court held that the Contracts Clause did not protect a company that received a state charter to build a bridge between Boston and Charlestown when the state subsequently permitted a different company to build a second bridge that would be very close to the first.9 The first recipient had a weak Contracts Clause claim to begin with because the second charter did not disrupt the terms of the first, which did not appear to offer exclusivity.  Nonetheless, Charles River represented the first step of retreat from the strong version of the Contracts Clause endorsed by the Marshall Court. 

Over the course of the next seventy years, the Court slowly sapped the Contracts Clause of the power it enjoyed under Chief Justice Marshall's watch.  Stone v. Mississippi can be considered a turning point: the Court held that the State could prohibit lotteries just a year after the legislature had chartered a lottery company.10  A unanimous Court ruled that the legislature could not "bargain away the police power of a state" or prevent its successors or the people (via constitutional amendment) from acting in the name of public health, safety, and welfare.11  This was the beginning of the end for Marshall's understanding of the Contracts Clause.  While its fade halted briefly in the early 20th century when litigants championed substantive due process as a safeguard for claimed contractual liberties, the diminution of the Contracts Clause's power was well on its way.

The seed of the police power exception planted in Stone blossomed in Home Building & Loan Association v. Blaisdell, which the Court decided in 1934.  In the midst of the first Great Depression, Minnesota placed a moratorium on mortgage foreclosures authorized by contract.  Even though the law plainly impaired mortgage contracts, the Court upheld the provision because of the economic exigencies of the time and the resulting need "to protect the vital interests of the community."12  Blaisdell permanently etched a public purpose exception onto the Contracts Clause.  It is ironic that Blaisdell upheld the type of law adjusting the rights of creditors and debtors that inspired the drafters to create the Contracts Clause in the first place.  As Justice Sutherland wrote in dissent, "it legitimately cannot be urged that conditions which produced the rule may now be invoked to destroy it."13  Yet, a majority of the Court did exactly that.       

A Constitutional Ghost is Born 
Following Blaisdell, Contracts Clause challenges have been relatively uncommon and "rarely, if ever, successful.14  The Contracts Clause is not the most popular weapon for attacking a statute because the armor Blaisdell created is nearly impenetrable.15  The Court has developed a three-part test for Contracts Clause claims.  First, the Court asks whether the law at issue has substantially impaired a contractual relationship, 16 an inquiry that itself has three parts: "whether there is a contractual relationship, whether a change in law impairs that contractual relationship, and whether the impairment is substantial."17  Second, the state must have a significant and legitimate public purpose for the regulation.18  Third, the regulation must be reasonably related to the identified public purpose.19  In considering these last two parts, courts defer significantly to legislative judgment.  

Given the nature of the analysis, the chances of success are low.  Some cases never even get past step one; a court finds that no contract existed or that the impairment is not substantial enough.20  Those that do pass through this first gauntlet must then battle a rational basis standard that tilts the balance sharply in a state or local government's favor.21  Consequently, it should be no surprise that since Blaisdell, the Supreme Court has a struck down a state law on Contracts Clause grounds on only one occasion (where a private contract was involved).  In Allied Structural Steel Co. v. Spannaus, a Minnesota law required a company that had created a pension fund for its employees to pay a "funding" fee after it closed an office in the State.22  Declaring that the Contracts Clause was "not a dead letter," the Court struck down the law because its narrow focus demonstrated that it was not "necessary to meet an important general social problem."23  Allied Structural is not in line with previous decisions that give significant deference to legislatures-ensuring that citizens of a state have income in retirement seems well within the boundaries of the police power exception.  Whether Allied Structural was a blip on the radar or the beginning of a shift away from Blaisdell remains unknown because the Court has considered the Contracts Clause so few times since then; there have been only a handful of cases in the past thirty years, and the Court has not taken a pure Contracts Clause case since 1992.            

Is a Resurrection on the Horizon? 
Conditions may be ripe for a change.  A confluence of three factors-the legislative reaction to the economic downturn racking America, an energized property rights movement, and a Supreme Court that has expressed no shyness about revisiting long-established precedent-raises the prospect that the Contracts Clause's profile will become more visible in the near future.  

First, there has been an array of recent recession-driven State and local initiatives that may provoke Contracts Clause litigation.  In a replay of Blaisdell, many address mortgage contracts.  In Massachusetts and New Jersey, the executive and legislative branches have taken action against subprime lenders; they have barred lenders from initiating or advancing foreclosures on mortgage loans considered "unfair"24 and provided relief for residential borrowers that obtained mortgages with "teaser rates."25  In Baltimore, the City Council considered a bill that extended the time between foreclosure and eviction regardless of the mortgage contract's terms.26  Other legislative efforts prompted by the economy have engendered Contracts Clause claims.  For instance, to help close a huge budget shortfall, the Arizona legislature drained a biotechnology research and development fund that it had created just two years earlier.  An organization that had entered into a contract with the state and expected to obtain reimbursements from the fund claimed that the fund's decimation violated the Contracts Clause.27 

Second, a reinvigorated property rights movement may find it useful to once again invoke the Contracts Clause to challenge this type of legislation.  The 2005 decision in Kelo v. City of London was in many ways the rallying cry for property rights advocates that Roe v. Wade was for the pro-life movement.  The momentum has not dissipated, and the concern about protecting property rights protections carries over to the Contracts Clause.  For instance, even though neither the role of the Obama Administration in the Chrysler bankruptcy nor Congress's proposed AIG-bonus legislation implicated the Contracts Clause directly, advocates nonetheless invoked its name in rallying against these federal efforts to alter contractual obligations.28 As state legislatures and city councils continue to devise ways to alleviate economic hardship in their jurisdictions, advocacy groups may be increasingly willing to challenge those legislative initiatives using the Contracts Clause.

Third, any Contracts Clause challenges may eventually wend their way up to a Supreme Court that has been willing to revisit seemingly well-established doctrines.  Since Chief Justice Roberts took the oath, the Court has discarded Dr. Miles's century-old prohibition on minimal retail pricing;29 significantly altered the federal system of notice pleading, overturning Conley v. Gibson in the process;30 abandoned Michigan v. Jackson;31 discarded the qualified immunity test established in Saucier v. Katz;32 called the future of the exclusionary rule into doubt; 33 and appears on the verge of overruling Austin v. Michigan.  The Court has not shied away from rummaging through the constitutional attic; this past term, it decided a Tonnage Clause case for the first time in nearly a century.34  Justice Thomas in particular has expressed his willingness to reconsider seemingly unshakeable precedents.  In separate opinions written this past term, Justice Thomas questioned the incorporation of an antidiscrimination principle into the Supremacy Clause,35 challenged the FCC's constitutional authority to regulate broadcasters as articulated in Red Lion Broadcasting Co. v. FCC, 395 U. S. 367 (1969) and FCC v. Pacifica Foundation, 438 U. S. 726 (1978),36 attacked the implied preemption doctrine,37 and argued that Section 5 of the Voting Rights of 1965 is unconstitutional.38  The Court's willingness to reevaluate its precedents, no matter how solid their apparent foundations, suggests that the entrenched understanding of the Contracts Clause and its limitations may not be immune from review should the right case percolate through the system.  

Conclusion 
Whether the Contracts Clause has a second life cannot be known with certainty, but with an economy that is driving legislatures to enact statutes that affect contractual arrangements, a loud chorus of voices championing greater property rights, and a Court that is receptive to reevaluating even its most settled doctrines, the chance of a constitutional resurrection for the Contracts Clause is as high as it has been for some time.

Jeffrey A. Berger is an associate with the law firm Mayer Brown LLP.  He focuses on appellate and Supreme Court litigation

Notes:
1. Erwin Chemerinsky, CONSTITUTIONAL LAW § 8.3, at 495 (1997).

2. Douglas W. Kmiec & John O. McGinnis, The Contract Clause: A Return to the Original Understanding, 14 HASTINGS CONST. L.Q. 525, 533-34 (1987). 

3. James W. Madison, Federalist No. 44 (Clinton Rossiter ed. 1961). 

4. Fletcher v. Peck, 10 U.S. (6 Cranch) 87 (1810).

5. New Jersey v. Wilson, 11 U.S. (7 Cranch) 164 (1812).

6. Sturges v. Crowninshield, 17 U.S. (4 Wheat.) 122 (1819). 

7. 17 U.S. (4 Wheat.) 518, 644 (1819).

8. Ogden v. Saunders, 25 U.S. (12 Wheat.) 213 (1827).

9. Charles River Bridge v. Warren Bridge, 36 U.S. (11 Pet.) 420 (1837).

10. 101 U.S. 814 (1879).

11. Id. at 817-18.

12. 290 U.S. 398 (1934).

13. Id. at 472 (Sutherland, J., dissenting).

14. Alliance of Auto. Mfrs. v. Gwadosky, 430 F.3d 30, 42-43 (1st Cir. 2005). 

15. The walls are a bit less high when the government is alleged to have interfered with its own contract.  See United States Trust Co. v. New Jersey, 431 U.S. 1 (1977).

16. Energy Reserves Group, Inc. v. Kansas Power & Light Co., 459 U.S. 400, 411 (1983).

17. General Motors Corp. v. Romein, 503 U.S. 181, 186 (1992). 

18. Energy Reserves, 459 U.S. at 411.

19. United States Trust Co., 431 U.S. at 22-23.

20. General Motors, 503 U.S. at 186-87 (holding that "there was no contractual agreement regarding the specific workers' compensation terms allegedly at issue"); Energy Resources, 459 U.S. at 416 (holding that the contracts at issue had not been significantly impaired).

21. Keystone Bituminous Coal Ass'n v. DeBenedictis, 480 U.S. 470 (1987).

22. 438 U.S. 234, 238-39 (1978).

23. Id. at 247.

24. AG shuts down two mortgage originators, BOSTON BUSINESS J., Nov. 12, 2008.

25. Leonard Bernstein, NJ's bailout for over-extended homeowners, N.J. LAWYER, Nov. 10, 2008, at 6.

26. Annie Linskey, Council's Foreclosure Bill Illegal, City Says, BALTIMORE SUN, Mar. 14, 2009, at 7A.

27. Jim Small, Science Foundation Arizona sues state over sweep of 21st Century Fund, ARIZONA CAPITOL TIMES, May 22, 2009.

28. See, e.g., Todd Zywicki, Chrysler and the Rule of Law, WALL ST. J., May 13, 2009, at A19. 

29. Leegin Creative Leather Products, Inc. v. PSKS, Inc., 551 U.S. 877 (2007).

30. Bell Atlantic Corp. v. Twombly, 550 U.S. 544 (2007); Ashcroft v. Iqbal, 129 S. Ct. 1937 (2009).

31. Montejo v. Louisiana, 129 S. Ct. 2079 (2009).

32. Pearson v. Callahan, 128 S. Ct. 1702 (2009).

33. Herring v. United States, 129 S. Ct. 1692 (2009).

34. Polar Tankers v. Valdez, 129 S. Ct. 2277 (2009).  Mayer Brown represented the petitioners in this case.

35. Haywood v. Drown, 129 S. Ct. 2108 (2009) (Thomas, J., dissenting).

36. FCC v. Fox Television Stations, Inc., 129 S. Ct. 1800 (2009) (Thomas, J., concurring).

37. Wyeth v. Levine, 129 S. Ct. 1187 (2009) (Thomas, J., concurring in judgment). 

38. Northwest Austin Municipal Utility District No. 1 v. Holder, 129 S. Ct. 2504 (2009) (Thomas, J., dissenting).

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